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Basic Question 13 of 20
Longbay Corporation has obtained a $1 million loan to acquire construction-related equipment. Unbeknownst to the lender, Longbay decides to spend the money on a different type of equipment, which has a market risk that is the same as the original equipment but the potential returns of which have more volatility or dispersion. Because of this asset substitution, the creditor experiences ______.
B. less market risk
C. greater default risk
A. greater market risk
B. less market risk
C. greater default risk
User Contributed Comments 5
| User | Comment |
|---|---|
| sarath | Market risk is the interest rate risk... |
| 2014 | question says market risk is same, obvious answer is default risk |
| schweitzdm | How does a piece of equipment have volatility in returns? Is the question implying that the company they are buying the equipment from has more returns as a business entity? I am confused because I do not see how these would affect Longbay. If Longbay buys equipment and is going to use them to build or sell, what is the difference if they indeed receive the equipment they're buying? What does the supplier of equipment have to do with it? Perhaps I am over-thinking this question but I believe further elaboration would be beneficial. |
| schweitzdm | I just re-read the question and I understand the answer to my comment above. The equipment will generate a different amount of returns for Longbay and that is the heart of the question. |
| khalifa92 | and volatility is the core of the heart. |
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Learning Outcome Statements
describe credit risk and its components, probability of default and loss given default
CFA® 2024 Level I Curriculum, Volume 4, Module 14.